Dynamic credit management

ABSTRACT

A method for providing a financial evaluation of at least one financial instrument or of an issuer supports the provision of a dynamic credit limit. A dynamic credit limit may be associated with a counterparty or a debt security of the counterparty, for example. The method includes obtaining counterparty credit quality data associated with a transaction of the financial instrument between a party and a counterparty. Debt market data is obtained where the debt market data is associated with or relevant to the transaction. A dynamic credit limit is determined for the counterparty or a financial instrument of the counterparty based on at least one of the inputted counterparty credit quality and the obtained debt market data. The dynamic credit limit may be defined in terms of a credit exposure versus time.

FIELD OF THE INVENTION

The invention relates to dynamic credit management and the provision ofa financial evaluation of at least one financial instrument or anentity.

BACKGROUND

In the prior art, analysts study the financial aspects of businessentities and rate securities of the business entities based on theirevaluations. For example, analysts may rate the publicly tradedsecurities and private-placement securities of long-term debt,medium-term notes, commercial paper, bank loans, and preferred stock.The ratings are generally defined as a progressive series of discreteclassifications. For example, publicly traded debt securities may berated in accordance with various levels in an investment gradeclassification or various levels in a junk or high-yield securityclassification.

With limited resources the analysts attempt to rate accurately the debtsecurities of numerous business entities, which may be located in theU.S. or overseas. Further, even if adequate resources are available topromptly evaluate the performance of the underlying business entity orits securities, the analysts may want to make sure that temporary orevanescent market conditions are not improperly influencing a rating ora level of a security (e.g., debt security). One or more analystrecommendations and credit ratings may lag actual market conditionsbecause of the limited resources of the analysts or for other reasons.As a result, the variable credit characterizations of debt securitiesmay not be as accurate as they might otherwise be.

In reliance upon such out-of-date or inaccurate analysis, a party to afinancial transaction may make decisions that do not reflect truecurrent market conditions or risks in purchasing or selling a particularfinancial instrument (e.g., debt security). For example, the party mayincur vague financial risks as the party approaches or reaches anestimated full credit limit of the counterparty because of uncertaintyin the credit capacity of the counterparty. Accordingly, a party, anunderwriter of securities or an investment banker may not be able to usethe full credit limit of the counterparty in decisions to enter intofinancial transactions, to hold financial instruments, or to enter intohedging activity. The inability to use the full credit limit of thecounterparty may reduce the financial leverage and capital available tocorporations, among other things. Thus, a need exists for improving theprecision and timeliness of credit evaluations of financial instruments(e.g., debt securities).

SUMMARY OF THE INVENTION

In accordance with the invention, a method for providing a financialevaluation of at least one financial instrument (e.g., debt instrument)or of an entity supports the provision of a dynamic credit limit. Adynamic credit limit may be associated with a counterparty or a debtsecurity of the counterparty, for example. The method includes obtainingcounterparty credit quality data associated with a transaction of thefinancial instrument between a party and a counterparty. Debt marketdata is obtained, where the debt market data is associated with orrelevant to the transaction. A dynamic credit limit is determined forthe counterparty or a financial instrument of the counterparty based onat least one of the inputted counterparty credit quality data and theobtained debt market data. The dynamic credit limit may be defined interms of a credit exposure versus time. Further, the dynamic creditlimit may be updated at an update interval or update frequencysufficient to provide an accurate depiction of the dynamic credit limitin the time domain.

A dynamic credit limit is representative of or responsive to changes inthe entity (e.g., issuer) or the counterparty that affect thecreditworthiness of the entity, the counterparty, or a financialinstrument associated with the entity or the counterparty. A party maymanage its credit exposure with a counterparty to meet various financialgoals. For example, one financial goal may be to minimize unused creditcapacity of the counterparty. Accordingly, the counterparty may becomefully leveraged or fully funded by debt securities to an extentconsistent with the defined dynamic credit limit.

BRIEF DESCRIPTION OF THE DRAWINGS

FIG. 1 is a block diagram of a financial system for providing afinancial evaluation in accordance with the invention.

FIG. 2 is a flowchart of a method for providing a financial evaluationof at least one financial instrument, an issuer, or a counterparty inaccordance with the invention.

FIG. 3 is a block diagram of a method for managing a transaction basedupon a financial evaluation and in accordance with the invention.

FIG. 4 is a graph of credit exposure versus time in accordance with atraditional credit limit determination of the prior art.

FIG. 5 is a graph of credit exposure versus time in accordance with adynamic credit limit determination consistent with the invention.

FIG. 6 is an illustrative graph of party's probability of realizing aspecific loss rate versus a party's annual losses as a percent of totalcredit exposure.

FIG. 7 is a graph that illustrates market access versus credit risk.

FIG. 8 is a chart that shows a party's return on economic risk versus aparty's risk share associated with various counterparties.

FIG. 9 is an alternate embodiment of a financial system for providing afinancial evaluation in accordance with the invention.

DETAILED DESCRIPTION

In accordance with the invention, the financial system 10 of FIG. 1supports the provision of a financial evaluation of at least onefinancial instrument (e.g., a debt instrument), a counterparty, or anissuer. The financial system 10 comprises a data processing system 20.The data processing system 20 is coupled to a user interface 18 whichallows a party or user to interact with the data processing system 20. Acounterparty data source 12, a debt market data source 14 or bothprovide information to the data processing system 20 via acommunications network 16 or otherwise. The data processing system 20may communicate with an existing financial system 32 of a party (e.g.,an existing trading system or enterprise resource planning system) andan external manager 34. The external manager 34 may be coupled to thedata processing system 20 via the communications network 16.

The communications network 16 may comprise the Internet, an intranet, adedicated link, a virtual private network, an encrypted connection, asecure connection, a data packet network, a circuit-switched network, oranother communications link.

The data processing system 20 comprises a dynamic credit limit module22, a credit exposure tracking module 24, a processor 26, acommunications interface 28 and a document formatter 30. Thecommunications interface 28 obtains information from the counterpartydata source 12, the debt market data source 14, or both. Thecommunications interface 28 may facilitate communication of the obtainedinformation to the dynamic credit limit module 22.

The dynamic credit limit module 22 supports the determination of adynamic credit limit based upon at least one of the counterparty dataand the debt market data. The dynamic credit limit may be associatedwith at least one financial instrument (e.g., debt instrument or ahybrid debt-equity instrument), an issuer, or a counterparty. Thedynamic credit limit may be updated on a regular interval (e.g., on aweekly basis or a daily basis). The dynamic credit limit may be updatedat an update interval or update frequency sufficient to provide anaccurate depiction (e.g., high resolution) of the dynamic credit limitin the time domain. In one embodiment, the update interval or updatefrequency is sufficient to support defining a dynamic credit limit as acontinuously variable, numerical credit exposure rating of thecounterparty.

The credit exposure tracking module 24 tracks the actual credit exposureof a party with respect to at least one financial instrument, an issuer,or a counterparty associated with a corresponding dynamic credit limit.The credit exposure tracking module 24 may obtain information from oneor more of the following: (a) the user interface 18, (b) an existingfinancial system 32, (c) a database for storing transactional data onprevious transactions between a party and a counterparty for ananalogous or generally similar financial instrument, (d) a database forstoring transactional data or holdings on one or more financialinstruments associated with the counterparty or another affiliatedissuer, and (e) a planned or prospective transaction of a partyconcerning a financial instrument of a counterparty. The informationavailable to the credit exposure tracking module 24 and the dynamiccredit limit module 22 is preferably synchronized such that theinformation in the dynamic credit limit module 22 and the creditexposure tracking module 24 is up-to-date with respect to one another.

The processor 26 may accept data from the dynamic credit limit module 22and the credit exposure tracking module 24 to determine one or more ofthe following: (a) an available level of credit that may be allocated tothe counterparty or an issuer; (b) a representation of a dynamic creditlimit associated with at least one financial instrument (e.g., a debtinstrument), a counterparty, or an issuer; (c) a representation ofcredit exposure of a party corresponding to the at least one financialinstrument, counterparty or issuer; (d) a maximum dollar amount offinancial instruments (e.g., debt instruments) or securities that aparty is recommended to transact or purchase from an issuer or acounterparty; (e) an alert or warning that the party's credit exposuremeets or exceeds a dynamic credit limit for a counterparty; (f) an alertor warning that the party's credit exposure meets or exceeds the dynamiccredit limit for a financial instrument or an issuer for a minimuminterval defined by the party; (g) a list of one or more hedgingtransactions or sales of presently held positions of debt instruments tocomply with a dynamic credit limit; or (h) some percentage goalassociated with the dynamic credit limit for at least one financialinstrument, or for a counterparty or an issuer.

The communications interface 28 of the data processing system 20facilitates communications between the counterparty data source 12, thedebt market data source 14 and the data processing system 20 via thecommunications network 16. The communications interface 28 may alsofacilitate communications between the data processing system 20 and anexisting financial system 32.

The existing financial system 32 may be a legacy system of a party. Forexample, the existing financial system 32 may represent a tradingsystem, a brokerage system, an enterprise resource planning system, anenterprise system, or the like. The existing financial system 32 maysupport a database or an information archive that contains informationon the credit exposure of the party to particular correspondingfinancial instruments (e.g., debt instruments), counterparties, groupsof debt instruments, or groups of counterparties. Where the existingfinancial system 32 can provide such information, such information maybe made available to the credit exposure tracking module 24 via thecommunications interface 28. The existing financial system 32 may alsobe used to execute hedging transactions or other transactions in one ormore financial instruments in accordance with management recommendationsdetermined by the processor 26 of the data processing system 20 or inaccordance with preferences entered into the user interface 18 by theparty.

The party may interact with the user interface 18 by observingrecommendations made by the processor 26, by observing reports of thedynamic credit limit associated with a counterparty, an issuer of afinancial instrument, a financial instrument, a portfolio of financialinstruments, or an industry segment. The user interface 18 may alsofacilitate display of a credit exposure or the like. The user interface18 may comprise a graphical user interface 18 which includes a numericaldisplay or a graphical display of a credit limit in terms of a creditexposure versus time for at least one financial instrument, an issuer ora counterparty. The data processing system 20 and the user interface 18may provide different access levels for different user groups. Forexample, the user groups may include traders and credit managers, wherecredit managers have a greater access to functionality and displayscreens of the user interface than the traders.

The user interface 18 may display information that the party may use tomanage financial transactions and holdings in accordance with thefollowing illustrative examples. In one example, the user interface 18may display a list of all counterparties for which the party's creditexposure exceeds the dynamic credit limit during a particular timeinterval (e.g., a day). In another example, the user interface 18 maydisplay a list of counterparties where the party's credit exposureexceeds a certain percentage (e.g., 90%) of the dynamic credit limit. Inyet another example, the user interface may support searches bycounterparty identifier (e.g., company name), credit exposure, dynamiccredit limit, a percentage of a dynamic credit limit, and a percentagethat over the dynamic credit limit.

The user interface 18 may facilitate trading, hedging transactions orother activities, the existing financial system 32. The existingfinancial system 32 may service requests on trading, hedgingtransactions, and other financial activities.

In an alternate embodiment, an external manager 34 supports tradingactivities, portfolio management activities, hedging activities or otherfinancial services or management processes that the party does not wishto handle via the data processing system 20 or the existing financialsystem 32. The circumstances (e.g., equipment unavailability or failure)where the existing financial system 32 is not able to engage insecurities trading, hedging, portfolio management or other activities,the external manager 34 may be used to provide such capabilities. Thedynamic credit management of the invention lends itself well tooutsourcing of some credit risk management via the external manager 34,where costs or quality may be improved. For example, specialized serviceand transaction providers may have greater economies of scale thaninternal integrated functionality of the party.

The data processing system 20 may feature a document formatter 30 tosupport communications to the external manager 34 in the proper formatthat the external manager 34 can interpret. The document formatter 30may format dynamic credit limit information, credit exposureinformation, counterparty data, debt market data, recommendationsprovided by the processor 26 of the data processing system 20, or otheroutput of the processor 26 of the data processing system 20.

The document formatter 30 may format the information in a format that iscompatible for transmission over a communications network 16, such asthe Internet. For example, the document formatter 30 may format theforegoing information into a hypertext mark-up language (HTML) document,a standard generalized markup language (SGML) document, an extensiblemark-up language (XML) document, or some other file format (e.g., anInternet-compatible file format). HTML refers to a language for creatinga document or file, which may be defined by tags and attributes. SGMLrefers to a system of rules for organizing and structuring (e.g.,tagging) elements of a document or a file. XML refers to a specificationthat supports customized tags on the definition, transmission,validation, and interpretation of data between different applications ordifferent entities. In one embodiment, an XML document or a batch fileprovided by the document formatter 30 may contain data on at least onecounterparty and may be provided on a daily basis.

The format of the document outputted by the document formatter 30 may bespecified in accordance with a document type definition (DTD). Thedocument type definition may define how markup tags are interpreted byan application that forms or creates the document. For example, thedocument type definition may refer to a file that defines theinterpretation of markup tags of a standard, generalized markup language(SGML) document, an extensible mark-up language (XML) document, orhypertext markup language (HTML) document.

The external manager 34 accepts the formatted document and may processthe document in an agreed upon manner with the party. For example, theparty may defer to the judgment or discretion of the external manager34, which may be controlled by a broker-dealer or investment-bankingfirm that manages the finances of the party consistent with adiscretionary account or by some agreement.

FIG. 2 is a flowchart of a method for providing a financial evaluationof at least one financial instrument (e.g., debt instrument), acounterparty or an issuer. The method of FIG. 2 starts in step S10.

In step S10, the data processing system 20 obtains counterparty creditquality data associated with a proposed transaction of a financialinstrument (e.g., debt instrument) between a party and a counterparty.The counterparty credit quality data may comprise data on acounterparty's creditworthiness. Creditworthiness refers to the capacityof a counterparty or another business entity to repay its debtobligations in full and on time. Credit quality data may include creditratings that express an opinion on the ability of a business entity tomeet financial obligations on securities or financial instruments issuedby the business entity. The financial commitments may include thepayment of interest, preferred dividends, the repayment of principal orother payments on a timely basis.

The counterparty credit quality data may provide an indication of thelikelihood of getting money back that is loaned to the counterparty inaccordance with the terms agreed to between the party and thecounterparty. Credit ratings may not address the risk of loss due tochanges in market interest rates or other market considerations. Wherethe credit quality data concerns a business entity, as opposed to anunderlying security of the business entity, the counterparty creditquality data may reflect a financial analysis based upon one or more ofthe following factors: the adequacy of capital profitability, assetquality, earnings quality, earnings predictability, earnings record,liquidity, strength of balance sheet, regulatory issues in country wherethe counterparty does business, and currency valuation risks. Marketliquidity may be evaluated in terms of one or more of the following: (1)the volume or aggregate currency amount of debt transactions cleared bya clearinghouse, (2) the volume of debt transactions traded by one ormore broker dealers, (3) the volume of a particular class of debttransactions.

In one example, the credit quality data may be based at least partiallyupon a credit rating issued by an analyst or a credit rating agency,such as Fitch, Standard and Poors, and Moodys. With respect tosecurities, Fitch may assign investment grade ratings that range fromlong-term AAA to BBB categories and short-term investment grade ratingsthat range from F1-F3 to indicate a relatively low probability ofdefault. In contrast, other debt securities may be defined with aspeculative, junk bond or non-investment grade categories which mayrange from long-term BB to D and may include short-term B to D ratings.The non-investment grade ratings may reflect a higher probability ofdefault, or may even indicate that default has already occurred.

The counterparty credit quality data may also include supplementalcredit quality data that supplements the credit quality ratings. Forexample, the supplemental data may include press releases with financialdata, security filings that are filed with the Securities and ExchangeCommission (SEC) or another financial regulator for public reportingcompanies and the like. The supplemental data may serve to provide thelatest or updated financial information associated with a counterparty,an issuer, or a debt security.

In step S12, following step S10, the data processing system 20 obtainsmarket data associated with at least one of the financial instruments(e.g., debt instruments) in the proposed transaction. Market data mayinclude statistics or financial data on one or more financialinstruments that are analogous to or similar to the subject financialinstrument. The financial data may include one or more of the following:a volume of debt transactions cleared by a settlement agency during aninterval (e.g., a week or a year), a volume of debt transactions tradedby one or more broker-dealers during an interval, a volume of debtissued by one or more issuers during an interval, a volume or rate of aparticular class of debt transactions during an interval, the currencyamount (e.g., dollar amount) of a particular class of transactions of aparticular security type executed during an interval, a transactionalrate (e.g., volume per unit time) of debt transactions traded by one ormore broker-dealers, a transactional rate of debt issued by one or moreissuers, a rate of a particular class of debt transactions, atransactional rate of a particular class of transactions of a particularsecurity type, and data indicative of the liquidity of the debt securityor other market data.

For example, the obtained debt market data may be used to provide anindication of whether a security or financial instrument is sufficientlyliquid with respect to the time horizon or investment horizon of theparty who is engaging in a proposed transaction with the counterpartyfor the particular debt instrument. Even if the credit quality of thecounterparty is adequate, the party may refrain from engaging in thetransaction if it determines that the liquidity of holding thesecurities or financial instruments may negatively impact the financialmanagement of the portfolio of securities, or other financialinstruments, for example.

In step S14, the data processing system 20 determines the dynamic creditlimit for the counterparty based on at least one of the obtainedcounterparty credit quality and the obtained debt market data. Thecounterparty credit quality data may be based at least partially upon adebt rating of the counterparty. The debt market data may comprisemarket liquidity data. The dynamic credit limit is defined in terms of acredit exposure versus time.

The dynamic credit limit may be determined as a continuously variable,numerical credit exposure rating of the counterparty. The dynamic creditlimit determination process may use user-configurable parametersconsistent with a hierarchical scheme in which user-configurableparameters for counterparties override industry-wide user-configurableparameters. Further, either a counterparty or an industry-wide parametermay override a system default parameter.

In step S14, the dynamic credit limit may be determined in accordancewith various alternate equations. Under a first technique fordetermining the dynamic credit limit in step S14, the dynamic creditlimit may be defined by the following equation:

D=M/(C+(N*σ)),

wherein D is the dynamic credit limit of the counterparty, M is amaximum risk exposure of a party, C is the credit cost of the party, Nis a multiplier, σ is a historical standard deviation of C (or C_(Avg))over a defined time interval. The variables M, C, N and σ may be derivedfrom or based on counterparty credit quality data, debt market data, orboth.

The maximum risk exposure M may be defined in terms of potentialfinancial loss (e.g., a default on one or more debt instruments) of thecounterparty that the party is willing to bear. In one embodiment, themaximum risk exposure M is defined over the interval X, and may bereferred to as M_(X) to indicate the temporal dependence. The maximumrisk exposure (M) may be based on market data, counterparty creditquality data, or both. The maximum risk exposure (M) may relate to theperformance of a counterparty or an industry sector associated with acounterparty. The party may establish the maximum risk exposure (M) toachieve the party's economic objective consistent with the party'sbusiness plan, for example.

Credit cost (C) of a party may be based on market data, counterpartycredit quality data, or both. In one embodiment, C has a lower limitsuch that the dynamic credit limit (D) is determined accurately withinthe lower limit. Further, the credit cost (C) may be averaged to smooththe resultant dynamic credit limit over time (e.g., the dynamic creditlimit curve). The average of the credit cost (C) may be designated asC_(Avg).

An averaging duration may be selected as a time period over which thecredit cost (C) is averaged. In one embodiment, C is averaged over adefined time interval that is indicated by X days, where X is a positiveinteger. For example, C may be averaged over a defined time intervalwithin a range from X equal 1 to 5, where 1 represents one day and 5represents five days. In another embodiment, C may be averaged over ahistorical time period of approximately 30 days.

N and σ are derived from credit cost data (C) or historical credit costdata. In one embodiment, a represents a historical standard deviation ofthe credit cost (C) over a defined time interval (e.g., 30 days). Thehistorical standard deviation (σ) may be multiplied by a volatilitymultiplier (N) to indicate the historical volatility of the credit cost(C). A higher number of N represents a higher historical volatility,whereas a lower number of N represents a lower historical volatility ofthe credit cost (C). In one embodiment, N may fall within a range from 2to 4. In accordance with another embodiment, N has a default value of 2and a maximum value of 4.

Under a second technique for determining the dynamic credit limit ofstep S14, the dynamic credit limit may be defined by the followingequation:

D=M/(V*(Max(C _(Min) ,C _(Avg))+N*σ)),

where wherein D is the dynamic credit limit of the counterparty, M is amaximum risk exposure, V is a multiplicative factor, C_(Min) is theminimum credit cost of the party, C_(Avg) is an average of C over adefined time interval, N is a multiplier, and σ is a historical standarddeviation of the credit cost C (or C_(Avg)) over a defined interval. Theterm (Max (C_(Min), C_(Avg)) indicates a maximum of a function ofC_(Min) and C_(Avg). The variables M, C, N and σ may be derived from orbased on counterparty credit quality data, debt market data, or both.The variables M, C_(Min), C_(Avg), N and σ may be derived from or basedon counterparty credit quality data, debt market data, or both. Thedefinitions of the variables for the second equation are consistent withlike variables of the first equation.

The multiplicative factor V represents a compensation for fluctuation incredit cost. The multiplicative factor (V) counteracts or decreases thedynamic credit limit (D) for an upward trend or change in credit cost(ΔC) that exceeds a credit cost increase threshold per a defined timeinterval of the counterparty credit.

The minimum threshold credit cost limit (C_(Min)) may prevent distortionof the determination of the dynamic credit limit (D) for small absolutemovements in the credit cost (C) in the range where the credit costapproaches zero. The minimum threshold credit cost limit (C_(Min)) maybe used to determine the value of a multiplicative factor (V) or whetherthe multiplicative factor is applied to compute the dynamic creditlimit.

C_(Avg) is an average of C over a defined time interval (e.g., X-dayaverage credit cost, where X is any positive integer). In one example,C_(Min), X, and N are preferably nonnegative integer values. C_(Min) mayfall within a range from 0 to 50, X may fall within a range from 1 to 5,N may fall within a range from 0 to 4 and V may be selected based on anhistoric level of increase in credit costs. Although C_(Min), X, and Nmay have values that are definable by a user, C_(Min), X, and N may havethe following default values of 0, 1, and 2, respectively.

The value of the multiplicative factor (V) depends upon one or more ofthe following factors: (1) an evaluation of credit cost increase (e.g.,ΔC) per a time interval and (2) whether or not the observed credit cost(C) is less than, equal to, or greater than a minimum credit cost(C_(Min)). In one example, the value of the multiplicative factor (V) isone by default, where the observed credit cost (C) is less than or equalto the minimum credit cost (C_(Min)). If the observed credit cost (C) isgreater than the minimum credit cost (C_(Min)), the value of V maydeviate from one based on the evaluation of credit cost increase over atime interval.

The value of V may be set to 1.5 if the credit cost (e.g., averagecredit cost) increases by approximately ten percent in one day and ifthe credit cost (e.g., C or C_(Avg)) is greater than the minimum creditcost (C_(Min)). The value of V may be set to 1.5 if the credit costincreases by approximately twenty-five percent in five days and if thecredit cost (e.g., C or C_(Avg)) is greater than the minimum credit cost(C_(Min)). The value of V may be set to 2 if credit cost increases byapproximately fifty percent in five days and credit cost is greater thanthe minimum credit cost. In sum, the value of the multiplicative factorV is selected based on the extent of increase in credit costs (e.g.,average credit cost) per a certain time interval. In one embodiment, themultiplicative factor V is applied to a function of the minimum creditcost (C_(Min)) and the average credit cost to determine the dynamiccredit limit.

In step S14, the dynamic credit limit (D) may be updated daily or atanother suitable time interval in response to changes in one or more ofthe following: counterparty credit quality, credit market liquidity, M,V, C, C_(Min), C_(Avg), N and σ. The dynamic credit limit (D) mayprovide a numerical measure of risk that reflects a precise, timely viewof credit quality of a counterparty, industry sector, a governmentalentity, or a defined portfolio of financial instruments.

In step S16, after step S14, the data processing system 20 supports aparty's maintenance of a credit exposure less than or equal to thedetermined dynamic credit limit for a particular financial instrument, aparticular counterparty, a particular issuer, a portfolio of financialinstruments, or an industry sector. The maintenance of the party'scredit exposure, less than or equal to the dynamic credit limit, may becarried out with respect to a proposed financial transaction, a proposedsecurities transaction, the holding of financial instruments, or theholding of securities.

In one example, the party decides to engage in a proposed transaction ifthe party's actual credit exposure associated with the counterparty isless than the dynamic credit limit of the counterparty or up to sometarget percentage (e.g., 90 percent) of a dynamic credit limit. Thetarget percentage of less than the dynamic credit limit provides theuser with a financial cushion to handle market fluctuations or otherfinancial conditions.

In another example, the data processing system 20 informs the user of adecision to hold debt instruments of the counterparty at least up to theindebted credit limit.

In yet another example, the data processing system 20 is arranged tohedge excessive credit exposure above the dynamic credit limit thatexceeds the dynamic credit limit for at least a minimum thresholdduration (e.g., one day). The minimum threshold duration may be a timeperiod defined by the user, for example.

In accordance with yet another example, the data processing system 20supports maintenance of a credit exposure less than or equal to thedynamic credit limit by engaging in one or more transactions to reduceexcessive credit exposure above the dynamic credit limit that exceedsthe dynamic credit limit for at least a minimum threshold duration. Forexample, the excessive credit limit exposure may be reduced oreliminated by hedging excessive credit exposure above the dynamic creditlimit that exceeds the dynamic credit limit for at least a minimumthreshold duration. The excessive credit exposure may be hedged byengaging in transactions in derivatives, for example.

In an alternative configuration of step S16, the data processing system20 may support managing debt risk of a debt portfolio including thefinancial instrument or credit activities of the counterparty byinterpreting a file containing counterparty data, debt market data,transactional data, and debt holdings data.

FIG. 3 shows a flowchart of a method for providing a financialevaluation of at least one financial instrument (e.g., debt instrument)of a counterparty or an issuer. Like reference numbers in FIG. 2 andFIG. 3 indicate like steps or procedures.

Steps S10 through S14 of FIG. 3 have already been explained inconjunction with FIG. 2. Accordingly, the explanation of FIG. 3 startsby considering step S15. In step S15, a party's actual credit exposureis measured or determined. The actual credit exposure is associated witha counterparty or financial instrument of a counterparty. For example,the data processing system 20 determines an actual credit exposure of aparty based on historic transactional data. Historic transactional datamay be retrieved from the existing financial system 32 or elsewhere. Theactual credit exposure refers to an observed or determined creditexposure of a party with respect to the counterparty.

In step S18, the processor 26 of the data processing system 20determines if the actual credit exposure is less than the dynamic creditlimit. If the actual credit exposure of a party is not less than thedynamic credit limit, then the method continues in step S20. However, ifthe actual credit exposure is less than the dynamic credit limit, thenthe method continues in step S22.

In step S20, the data processing system 20 may deny entry of the partyinto the proposed transaction unless the actual credit exposure of theparty is reduced. The denial of entry of the party into the proposedtransaction may be embodied as an alert that is displayed on a displayof the user interface 18. The alert may provide an explanation that theactual credit exposure is not less than the dynamic credit limit.Alternately, the alert may provide the level of the actual creditexposure and the level of the dynamic credit limit. In one embodiment,the user interface 18 may be able to override the denial of entry of theparty into the proposed transaction.

In step S22, the data processing system 20 determines if the completionof the proposed transaction would place the credit exposure of the party(with respect to the counterparty) over the dynamic credit limit. If thecompletion of the proposed transaction would not place the creditexposure of the party over the dynamic credit limit, the methodcontinues in step S24. However, if the completion of the proposedtransaction places the credit exposure of the party over the dynamiccredit limit, then the method would continue in step S26.

In step S24, the data processing system 20 authorizes the entry of theparty into the proposed transaction. The authorization of the entry ofthe party into the proposed transaction may be embodied as an alert on adisplay or user interface 18 that informs the user party of thefinancial consequences of entering into the transaction.

In another embodiment, the communications interface 28 may transmit anauthorization code and transactional data to the existing financialsystem, which may then execute the transaction.

In yet another embodiment, the document formatter 30 may support theformation and transmission of a document or another data structure thatcontains an authorization code and transaction data for execution of aproposed transaction by the external manager 34.

In step S26, the data processing system 20 denies entry of the partyinto the proposed transaction unless an actual credit limit exposure isreduced or unless the dynamic credit limit is increased. The actualcredit exposure refers to the credit exposure of the party and isgenerally under the control of the party to reduce it by engaging intransfers of financial instruments (e.g., debt securities) of thecounterparty or other financial instruments that are relevant to theproposed transaction. For example, other financial instruments that arerelevant to the transaction may include the securities of entities inthe same industry sector as the counterparty. The party may also engagein hedging activity for the purchase of derivatives to reduce the actualcredit exposure to an acceptable level such that the proposedtransaction may take place in step S26.

On the other hand, the dynamic credit limit is under the control of thecounterparty to a certain extent. The counterparty may wish to enterinto the transaction and may take steps to improve its dynamic creditlimit. For example, the counterparty may take one or more of thefollowing actions to increase its dynamic credit limit: issuing moreequity securities to reduce outstanding debt load on the company,retiring callable securities prior to their maturity dates, andobtaining the infusion of capital from a merger or acquisition tofacilitate completion of the proposed transaction.

FIG. 4 shows a graph of credit exposure versus time for a prior artscheme for credit limit determination and monitoring. The vertical axisof FIG. 4 represents credit exposure of a party, whereas the horizontalaxis of FIG. 4 represents time. The dashed upper line 400 represents aconventional counterparty credit limit as defined by a counterpartycredit rating, for example. The conventional counterparty credit limitis at a higher level 401 from time T₀ time T₅, whereas the conventionalcounterparty credit limit is at lower level 403 for time greater than T₅in the illustrative example. The credit limit only makes one transitionat T₅, as illustrated, which is consistent with the idea thattraditional counterparty credit limits are updated by analysts on asometimes infrequent basis. For example, as illustrated the transitionT₅ may coincide with a major corporate disclosure (e.g., a Form 8-Kfiling with the SEC), the occurrence of an event, or a predeterminedlapse of time may lead an analyst to update the traditional counterpartycredit limit.

The actual credit exposure of the party is indicated by the dot-dashline 402 below the dashed upper line 400 of the conventionalcounterparty credit limit. The actual credit exposure has actualtransitions at time T₁, T₂, T₃ and T₄. Actual transitions may occur atvarious times that do not necessarily coincide with major corporatedisclosures, events, or analyst reviews. Accordingly, as illustrated theactual credit exposure of the dot-dash line 402 varies more than thetraditional counterparty credit limit of the dashed upper line 400.

The cross-hatched area 405 of FIG. 4 indicates unused credit capacity ofthe counterparty. The unused credit capacity of the counterparty mayrepresent a lost business opportunity to the party opposite thecounterparty in the bargaining process or a transaction. Thecross-hatched area 405 lies between the traditional counterparty creditlimit and the level of the actual credit exposure. The counterparty maywant to maximize its leverage or maximize its ability to borrow capitalto fund its business and activities by minimizing its unused creditcapacity.

FIG. 5 is a graph that illustrates credit exposure versus time inaccordance with the invention. The dynamic credit limit is indicated bythe dashed line 501 or trace, as shown in FIG. 5. The actual creditexposure is indicated by the dash-dot line 502 or trace of FIG. 5. Thecross-hatched region 503 between the counterparty dynamic credit limitline (501) and the actual credit exposure line (502) indicates theunused credit capacity of the counterparty.

In general, the dynamic credit limit may be updated at an updateinterval or update frequency sufficient to provide an accurate depictionof the dynamic credit limit in the time domain. For example, in oneembodiment the counterparty credit limit fluctuates with a frequencythat is commensurate with or highly correlated to the frequency ofvariation of the party's actual credit exposure. Accordingly, thecounterparty credit limit provides a more realistic and variable view orsnap shot of the counterparty's financial creditworthiness on aninstantaneous basis than the traditional approach of FIG. 4. Because thedynamic credit limit is updated with a commensurate update frequency tothe frequency of variation of the actual credit exposure, the unusedcredit capacity of the counterparty may be reduced or minimized in thegraph of FIG. 5 in comparison to the graph of FIG. 4. In one embodiment,the update interval or update frequency is sufficient to supportdefining a dynamic credit limit as a continuously variable, numericalcredit exposure rating of the counterparty. A continuously variabledynamic credit limit may be represented graphically as a sloped line ora curved line plotted on a graph of credit exposure versus time.

In accordance with the dynamic credit management system and method ofthe invention, the precision and timeliness of the dynamic credit limitreduces or eliminates the unused credit capacity of the counterparty.The availability of the dynamic credit limit enables a party to make abetter and more accurate decision on whether or not to engage in atransaction with the counterparty. Further, the dynamic credit limit mayprovide insight for the party on how to manage the portfolio of one ormore financial instruments (e.g., debt securities) of the counterpartyor another issuer. The improved dynamic credit limit determinationallows both the party and the counterparty to benefit. The counterpartymay be able to use its credit capacity to the greatest extent possiblewithin the dynamic credit limit range and the party may be able tobetter manage transactions and holdings that relate to the counterpartycredit limit.

FIG. 6 is an illustrative graph of a party's probability of realizing aspecific loss rate versus annual losses as a percent of total creditexposure (e.g., rating buckets). The vertical axis represents theprobability of realizing a specific loss rate, whereas the horizontalaxis represents the annual losses as a percentage of total creditexposure. The numbers or percentage values on the horizontal andvertical axes of FIG. 6 are for illustrative purposes. Actual numbers orpercentage values may differ from those shown in FIG. 6, while stillfalling within the scope of the invention.

FIG. 6 includes two curves (601, 603). The first curve 601 representsprojected loss distribution of a party using a traditional credit ratingsystem. The second curve 603 represents a projected loss distribution ofa party using a dynamic credit limit evaluation in accordance with theinvention. As illustrated, the first curve 601 has a higher peakprobability of realizing a specific loss rate than the second curve 603.At the peak probabilities, a party who uses the traditional creditrating system may experience a corresponding lower annual loss 606 thanthe higher annual loss 608 of a party who uses the dynamic credit limit.Nevertheless, the party who uses the traditional credit rating systemmay tend to engage in unnecessary hedging activity, as indicated by thecross-hatched region of credit hedge leakage 605. The unnecessaryhedging activity may result from outdated market information or poorresolution levels associated with discrete financial ratings, forexample. Where the party uses the dynamic credit evaluation, the partyhas timely financial information available to make well-informeddecisions about risk retention and hedging of debt instruments of aparticular counterparty, industry sector, country, or defined portfolio.

FIG. 7 is a graph that illustrates market access versus credit risk. Thevertical axis represents market access, whereas the horizontal axisrepresents credit risk. Market access may be defined in terms of apercentage of a relevant market, such as counterparties with a certaincapitalization or credit rating in a defined geographic region (e.g.,the United States).

In FIG. 7, one cross-hatched rectangular region indicates a lower riskoperating region 701 for a party, whereas the other cross-hatchedrectangular region indicates a higher risk operating region 703 for theparty. The lower risk operating region 701 corresponds to lower marketaccess of the party. In contrast, the higher risk operating region 703is associated with a greater market access of the party. In one example,the lower risk operating region 701 represents transactions andcounterparties associated with investment grade securities or financialinstruments. Further, the higher risk operating region 703 representstransactions and counterparties that are not limited to investment gradefinancial instruments.

The party may hedge the increased risk attendant with the transitionfrom the lower risk operating region 701 to the higher risk operating703 region. For example, the party may hedge the incremental risk usingswaps or other derivative products. In one embodiment, the cost of thehedging is equal to or less than the cost of the incremental creditrisk. Accordingly, the party can service credit risks that are poorer orgreater than those associated with investment-grade counterparties tobroaden the party's revenue base.

FIG. 8 is a chart that shows return on economic risk versus risk share.The vertical axis represents return on economic risk for a party,whereas the horizontal axis represents risk share associated withcounterparties. In one embodiment, the return on economic risk may referto a return on capital for a party. Further, the risk share may beassociated with one or more counterparties or transactions affiliatedwith corresponding counterparties, as indicated on the horizontal axis.In an alternate embodiment, the horizontal axis may reflect incrementalrisks associated with representation of different counterparties in theportfolio.

In FIG. 8, a first region 801 indicates a region where the party'sreturn is above the hurdle rate 804. The hurdle rate 804 is indicated bya dotted horizontal line. The hurdle rate 804 represents a criticalthreshold of return (e.g., a 23 percent return on capital as shown inFIG. 8) on a party's economic risk. If the party's return associatedwith a counterparty is above the hurdle rate 804, the party may seek toengage in a transaction with the counterparty. Although the return oneconomic risk for 36 counterparties is shown by the 36 bars in the bargraph of FIG. 8, the return on economic risk may be indicated for anynumber of counterparties and still fall within the scope of theinvention.

A second region 802 indicates a region where the party's return is belowthe hurdle rate 804, but the departure below the hurdle rate is curableby the party's taking certain actions or countermeasures. If the returnis below the hurdle rate 804, the party may refrain from entering intothe transaction, unless the party can increase its spread relative tothe risk to move the party's return above the hurdle rate 804. In otherwords, the party may refrain from entering into a transaction with aparticular counterparty in the second region 802 unless the transactionassociated with the particular counterparty could be moved to fallwithin the first region 801. In one embodiment, the party may enter intoa transaction with a counterparty, where the return is lower than ahurdle rate 804 because the party can reduce economic exposure andthereby rise above the hurdle rate 804 by performing at least one of thefollowing activities: syndication of debt instruments from multiplecounterparties, swapping credit risk with a third party, and repricingof the transaction with the counterparty, and repricing of the creditrisk with the counterparty.

A third region 803 represents a region where the party's return is belowthe hurdle rate 804 and the deficiency in the hurdle rate cannot becorrected by the party's adoption of any countermeasures. In otherwords, a counterparty in the third region 803 or a transactionassociated therewith cannot be moved into the first region 801 by theparty's adoption of countermeasures. Accordingly, the party may refrainfrom entering into transactions associated with counterparties that fallwithin the third region.

FIG. 9 represents an alternate embodiment of the financial system ofFIG. 1. The financial system of FIG. 9 is similar the financialevaluation system of FIG. 1, except the financial system of FIG. 9 isnot coupled to the counterparty data source 12 and the debt market datasource 14 via the communications network 16. Like reference numbers inFIG. 1 and FIG. 9 indicate like elements.

In FIG. 9, the data processing system 20 of FIG. 9 receives input data,such as market data and dynamic credit-quality data, via the userinterface 18. For example, the data processing system 20 may receivevalues for one or more of the following variables: M, V, N, σ, C,C_(Avg), C_(Min), and X via the user interface 18. The user interface 18may comprise one or more of the following: a graphical user interface, akeyboard, a display, a pointing device, an optical drive, a disk drive,a reader for reading an optical storage medium, and a reader for readinga magnetic storage medium.

In one embodiment, a user enters input data or a file containing inputdata into the user interface 18. For example, a user may entercounterparty credit quality data by date and by counterparty identifier.The inputted file may contain one or more of the following types ofinput data: market data, reference data, and counter-party qualitycredit data for one or more counter-parties. Reference data includesgenerally static data, which may be revised less frequently than marketdata or counter-party credit quality data. The inputted file may beorganized as a batch file (e.g., an extensible mark-up file) whichcontains reference data and counterparty data applicable to a timeinterval (e.g., an entire day).

Although the financial evaluation of the invention is primarilydescribed with respect to a counterparty, a financial evaluation of theinvention is well-suited for managing credit risk associated with one ormore of the following: a counterparty, an industry sector, a country,and a defined portfolio. A party or counterparty can reduce the need forbad debt provisions or reserves where losses can be predicted moreaccurately. The dynamic credit supports precise and timely provision ofcredit quality information such that a party can manage credit exposuremuch closer to the dynamic credit limit or another preferential creditlimit than would otherwise be possible. Accordingly, in accordance withthe invention dynamic credit management may facilitate an expanded orbroader customer base for debt financing activities. Customers with lessthan investment-grade credit ratings or on the fringes of investmentgrade credit ratings may be added to the customer base to provide abroader customer base with the improved financial modeling of dynamiccredit management.

A dynamic credit limit (D) eliminates or reduces the need to holdreserves or capacity in investment grade debt to cover the uncertaintyfor other debt instruments in the portfolio. The dynamic credit limitsupports industry-sector diversification across different industrysectors to reduce risk.

The foregoing description of the invention describes severalillustrative embodiments. Other embodiments, variations, alterations oralternatives may fall within the scope of the invention and thefollowing claims. Accordingly, the claims should be accorded thebroadest interpretation possible consistent with the specification setforth in the description.

1-23. (canceled)
 24. A system for providing a financial evaluation of atleast one financial instrument, the system comprising: a communicationsinterface for receiving debt market data associated with a transactionof the financial instrument between a party and a counterparty andcounterparty credit quality data associated with the transaction of thefinancial instrument between the party and the counterparty; and adynamic credit limit module for determining a dynamic credit limit forthe counterparty based on at least one of the inputted counterpartycredit quality and the inputted debt market data, the dynamic creditlimit defined in terms of a credit exposure versus time.
 25. The systemaccording to claim 24 wherein the debt market data comprises marketliquidity data and wherein the counterparty credit quality data is basedon a debt rating of a counterparty.
 26. The system according to claim 24wherein the dynamic credit limit comprises a continuously variable,numerical credit exposure rating of the counterparty.
 27. The systemaccording to claim 24 further comprising: a credit exposure module fordetermining an actual credit exposure associated with the party; and aprocessor coupled to the credit exposure module and the dynamic creditlimit module, the processor determining if the actual credit exposureassociated with the party is less than the dynamic credit limit of thecounterparty to decide whether to engage in a financial transaction withthe counterparty.
 28. The system according to claim 24 wherein thedynamic credit limit is defined by the following equation:D=M/(C+(N*σ)), wherein D is the dynamic credit limit of thecounterparty, M is a maximum risk exposure of the party, C is the creditcost of the party, N is the multiplier, and σ is a historical standarddeviation of C over a defined time interval.
 29. The system according toclaim 28 wherein C represents an average of the credit cost of the partyover a historical time period.
 30. The system according to claim 24wherein the dynamic credit limit is defined by the following equation:D=M/(V*(Max(C _(Min) ,C _(Avg))+N*σ)), where D is the dynamic creditlimit of the counterparty, M is a maximum risk exposure of the party, Vis a multiplicative factor, C_(Min) is the minimum credit cost of theparty, C_(Avg) is a credit cost average over a defined time interval, Nis a multiplier, and σ is a historical standard deviation of C over adefined interval.